Progressive Neoliberalism: Biden’s Economics, Distribution, and Inflation

To borrow a label from the philosopher Nancy Fraser (2017), the Biden administration is pursuing “progressive neoliberalism” with regard to inflation. This stance is essentially a variation of the policy orientation of Clinton-Bush-Obama. It boils down to applying dogma about exponentially growing prices and, less realistically, costs that emerged in the USA decades ago. Here are three lines of reflection on what it implies for the future.

In one recent bad example of mainstream thinking, two economists from the Bank of International Settlements (Kohlscheen and Moessner 2021) use a cross-section/time series model based on econometric methodology proposed by Pesaran and Smith (1995) to combine data from 21 countries (and the euro area as one entity) to estimate the pass-through of labor cost to the price level. In the 2010s they find that this linkage was for all practical purposes non-existent. It is difficult to see how mixing up data from many countries or apples, oranges, durians, chirimoyas, mangos, papayas, etc. to get a universal pass-through parameter makes any sense.

Similarly, Storm (2021) argues that a paper by Mian, et. al. (2021) presented at the Federal Reserve’s annual Jackson Hole conference trying to explain the past few decades’ falling interest rates and rising income and wealth inequality is a failure. The key reason is Mian, et al.’s reliance on “loanable funds” to determine output and the interest rate. Tracing back to Knut Wicksell at the turn of the 20^th century, loanable funds analysis assumes that under normal circumstances saving from households is brought into line with business investment by changes in the interest rate. This “market” may not clear if the interest rate hits a “zero lower bound” with saving still above investment.

Storm points out that this story is rife with internal contradictions. First, households are not the main supplier of saving. Both business and the rest of the world are sources. Overall saving including business savings and the trade deficit has in fact been stable as a share of GDP. Second, low-income households have had negative saving (consumption + taxes + net financial payments > income) for many decades, i.e. they spend more than they take in. In national accounts terms, this gap is offset by high-income households whose share of saving has increased since the 1970s. They have also benefitted from high asset prices (stock market, real estate) which do not figure in the national accounts because they are not a cost of production.

Mian, et.al. try to rationalize these observations in terms of a changing rate of time preference affecting saving by a single “representative” household while still attempting to discuss shifts in distribution between rich and poor. Their treatment of the household sector’s savings is inconsistent, since they argue along loanable funds lines that interest rates are falling because savers as a group are becoming more patient about raising consumption, when in fact most of the population is clearly saving less. Nor do they recognize that the rational expectations “revolution” including costless stabilization was falsified by the Fed’s anti-inflationary shock treatment after 1980. Over the decades thereafter, rational expectations metamorphosed into inflation targeting as now practiced (Taylor and Barbosa Filho, 2021). Contemporary mumbo jumbo about secular stagnation by other mainstream economists proceeds along equally erratic lines.

Much more realistically, based on time series for the USA, the Council of Economic Advisors (Rowse, et. al., 2021) comes closer to practical macroeconomics. The Council is right in saying that the major immediate post-World War II inflation episodes came mostly from supply shocks after sudden stops. This narrative can change if Biden is successful in raising the labor share – a big if. A number for expected inflation can play a role, not because everybody shares the same expectations, but because it is a signal about what the Fed hopes it can achieve in influencing how aggressively monopolists mark up import and labor costs to fix their prices. The signaling, on the whole, has been unsuccessful – the Fed’s famous two percent target has not been reached – but the Governors still seem to think that it is of some use.

At the moment the Fed still pursues quantitative easing even though consumer price inflation is speeding up. It may have to tighten in 2022-23 to keep anticipated inflation under control. Moderate tightening will represent success, not failure, since income growth is a determinant of the real interest rate and the distribution of household income and wealth.

Specifically, in the last decade, the debate about secular stagnation blamed chronic insufficient demand growth for low or negative real interest rates. Based on the usual New Keynesian 3-equation model (IS balance + Phillips Curve + Monetary Rule), the effective or zero lower bound was the standard interpretation of the slow recovery from the Global Financial Crash of 2008. The IS moved so far down that monetary policy alone was not able to make the economy return to its potential output, which was initially assumed to evolve independently from demand, based on the neoclassical (Ramsey-Cass-Koopmans-DSGE) supply-driven model.

Ten years of slow growth, social protests, and sharp criticism from heterodox economists eventually made policymakers realize that potential output could also be an adjusting variable, meaning sluggish effective demand could drag down productivity growth and make the output gap close at a lower trend income growth. Even though the demand-driven nature of income growth had been emphasized by Keynes almost 90 years ago, it took another financial crisis and dismal recovery to put demand-determined macroeconomics at least at the back of the mainstream mind.

Returning to secular stagnation, if the recession is deep and long enough, the economy may fall back into a slow-growth trajectory. Relying only on monetary policy to solve the problem increases the risk of a permanent fall in trend income. To minimize this risk, something else than zero nominal interest rates is needed and, in the case of the US, fiscal policy is the main candidate to pull the economy out of its slow-growth trend.

What does all this mean for Biden?

If “Bidenomics” succeeds in accelerating GDP growth in a sustainable way, the real interest rate is likely to rise. Faster inflation would be likely, pulling up nominal and real interest rates. The main question is how much?

If a Volcker-like shock becomes necessary, Biden will have failed. If a moderate increase in the 10-year real interest rate materializes, the US economy will get back toward normal. For example, say that the Fed Funds rate goes to 1.5% by mid-2023 -- a huge increase for the US -- with inflation running at 2.5% and GDP growth also at 2.5% The ratio of Treasury debt to GDP will still be stable with a mild primary deficit (negative government balance excluding interest). There would be no fiscal dominance, no threat for the global role of the US dollar, and no other doomsday scenarios at least not from economics. Anything of course can happen from geopolitics or domestic political eruption.

The magnitude of monetary tightening will depend on the recovery of labor productivity on one side, and big business's willingness to restrain its monopoly rents.

If productivity accelerates rapidly, real wages can grow and inflation can remain stable with a constant or with a falling labor share. This would be a replay of the mildly progressive neoliberal policy stance under Clinton-Bush-Obama and even Trump with big random shocks at the top (under an equally erratic Leader, Cubans used to say the same about Fidel). Increasing duality in the structure of production including expansion of low wage/low productivity sectors with slow productivity growth (Taylor and Őmer, 2020) has surely held down wage pressure as well.

But as we argued in an earlier paper (Taylor and Barbosa Filho, 2021) Bidenomics risks impalement on an inflation trilemma.

First, money wage growth must exceed the sum of growth rates of prices and productivity if the huge increase in inequality in the size distribution of income since 1970 is ever to be reversed. Low incomes depend heavily on wages and fiscal transfers. Political possibilities for increases in the latter in the form of Biden’s $3.5 trillion non-traditional infrastructure package are at the moment up in the air. Suppose that they amount to $350 billion per year or 1.75% of GDP. By way of comparison, current fiscal transfers (Social Security. Medicare, Medicaid, SNAP, etc.) to households in the bottom 60% of the size distribution of income are on the order of $3 trillion or 15% of GDP per year. For all Republican talk about “socialism,” the Biden package would fall well short of increasing American social support spending per capita to Western European levels.

If there is significant money wage growth, the inflation rate would increase as firms pass higher costs into higher prices. The Fed’s two percent target could be breached, at which point the authorities could well move toward demand contraction.

Finally, faster inflation would drive up interest rates, forcing asset prices down, driving up costs of servicing private and fiscal debt, and cutting into financial fees. Strong reactions (at the very least) could be expected from Wall Street and affluent households. The Fed’s “put” or floor under interest rates when asset prices wobble could well be a flashpoint. It has been in place now for 35 years and is Holy Writ for Wall Street. Asset markets all over the world implicitly price it in.

The challenge -- the Biden inflation trilemma -- is how fast Biden and Powell are willing to let real wages grow above productivity and how big business and Wall Street will respond. The dual nature of the US (and any capitalist economy) may save them from making the choice. There may still be too many people in precarious jobs for labor pressures to become significant without government support.

The overheating under Lyndon Johnson was a coincidence of war, rising minimum wages, and low unemployment. So far Biden does not want war, and he could not get even a moderate minimum-wage rise through Congress either. What would have been a bellwether unionization effort at Amazon in the South failed. As a result, low unemployment alone is not frightening for US inflation, but it may rock financial markets through small changes in the Fed Funds. Higher wage and import costs (for food especially) may lead to more threatening inflation dynamics.

References and Acknowledgements

Support from INET and suggestions by Thomas Ferguson are gratefully acknowledged.

Fraser, Nancy (2017) “From Progressive Neoliberalism to Trump – and Beyond,” American Affairs 1(no. 4) https://americanaffairsjournal.org/2017/11/progressive-neoliberalism-trump-beyond/

Keynes, John Maynard (1936) The General Theory of Employment, Interest, and Money, London: Macmillan

Kohlscheen, Emanuel and Richhild Moessner (2021) “Globalization and the Decoupling of Inflation from Domestic Labour Costs,” https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3914561

Mian, Atif, Ludwig Straub, and Amir Sufi (2021) “What explains the decline in r∗? Rising income inequality versus demographic shifts.” Paper prepared for the 2021 Jackson Hole Economic Symposium hosted by the Federal Reserve Bank of Kansas City https://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=web&cd=&ved=2ahUKEwiYiPnnrp3zAhWnl-AKHdxmBuEQFnoECAcQAQ&url=https%3A%2F%2Fwww.kansascityfed.org%2Fdocuments%2F8337%2FJH_paper_Sufi_3.pdf&usg=AOvVaw1x4QAmeMU9UIxxGJsqDNrL

Pesaran, M Hasham, and Ron Smith (1995): "Estimating long-run relationships from dynamic heterogeneous panels,” Journal of Econometrics 68(1): 69-113 https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3914561

Rowse, Cecilia, Jeffery Zhang, and Ernie Tedeschi (2021) “Historical Parallels to Today’s Inflationary Episode,” https://www.whitehouse.gov/cea/blog/2021/07/06/historical-parallels-to-todays-inflationary-episode/

Storm, Servaas (2021) “Why the Rich Get Richer and Interest Rates Go Down,” https://www.ineteconomics.org/...

Taylor, Lance, and Nelson Barbosa Filho (2021) “Economists Have Been Using a Misleading Inflation Model for Sixty Years,” https://www.ineteconomics.org/perspectives/blog/mainstream-economists-have-been-using-a-misleading-inflation-model-for-60-years

Taylor, Lance, and Őzlem Őmer (2020) Economic Inequality from Reagan to Trump, New York: Cambridge University Press

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How Milton Friedman Aided and Abetted Segregationists in His Quest to Privatize Public Education

The year 2021 has proved a landmark for the “school choice” cause as Republican control of a majority of state legislatures combined with pandemic learning disruptions to set the stage for multiple victories. Seven U.S. states have created new “school choice” programs and eleven others have expanded current programs, with laws that authorize taxpayer-funded vouchers for private schooling, provide tax credits, and authorize educational savings accounts to invite parents to abandon public schools.

“School choice” sounds like it offers options. But my new INET Working Paper shows that the whole concept, as first implemented in the U.S. South in the mid-1950s in defiance of Brown v. Board of Education, aimed to block the choice of equal, integrated education for Black families. Further, Milton Friedman, soon to become the best-known neoliberal economist in the world, abetted the push for private schooling that states in the U.S. South used to evade the reach of the ruling, which only applied to public schools. So, too, did other libertarians endorse the segregationist tool, including founders of the cause that today avidly pushes private schooling. Among them were Friedrich Hayek, Murray Rothbard, Robert Lefevre, Isabel Patterson, Felix Morley, Henry Regnery, trustees of the Foundation for Economic Education (FEE), and the William Volker Fund, which helped underwrite the American wing of the Mont Pelerin Society, the nerve center of neoliberalism.

Friedman and his allies saw in the backlash to the desegregation decree an opportunity they could leverage to advance their goal of privatizing government services and resources. Whatever their personal beliefs about race and racism, they helped Jim Crow survive in America by providing ostensibly race-neutral arguments for tax subsidies to the private schools sought by white supremacists. Indeed, to achieve court-proof vouchers, leading defenders of segregation learned from the libertarians that the best strategy was to abandon overtly racist rationales and embrace both an anti-government stance and a positive rubric of liberty, competition, and market choice.

Friedman published his first manifesto for “educational freedom” in 1955—just as conservative white leaders in Virginia were inciting a regionwide strategy of “massive resistance” to the mandate to desegregate public schooling. The success of massive resistance hinged on state provision of school vouchers to parents who otherwise would concede to desegregated schooling. Virginia and other states maintained the vouchers until 1968. That was when the U.S. Supreme Court, in a Virginia-based case, outlawed them as intentionally discriminatory. Yet Milton Friedman held up that purposefully discriminatory Virginia plan as a model for schooling everywhere in Capitalism and Freedom, now translated into eighteen languages, “Whether the school is integrated or not,” he wrote, should have no bearing on eligibility for the vouchers.

Black Virginians opposed these vouchers with near unanimity. Oliver Hill, the NAACP attorney who had co-led Virginia’s piece of the litigation folded into Brown, put the principle in an apt axiom: “No one in a democratic society has a right to have his private prejudices financed at public expense.”

In contrast, libertarian thought leaders and the neoliberal cause’s main funder at the time saw no problem with tax subsidies to segregation academies, even in states that denied voting rights to the African Americans harmed by the policy. While Friedman and most of his neoliberal collaborators made their case for privatization in race-neutral language and may not personally have been driven by racial animus, they had no scruples about exploiting white supremacy to move their otherwise unsaleable policy agenda. This history reveals how Milton Friedman and his allies provided aid and comfort to those who presided over a racial dictatorship in the Jim Crow South, an apartheid-like regime that stayed in power through state-sponsored repression, employer retaliation, and private violence.

The collaboration between neoliberal intellectuals and segregationists involved opportunism on both parts, to be sure. But what made it work was the overlap in their values and views of government. Each placed a premium on the liberty of those who had long profited from racial capitalism and sought to shield it from government action on the part of Americans, Black and white, committed to democratic values. At a moment when at least some whites in the South were prepared to accept a more equitable society, neoliberals lined up with the beneficiaries of the old order. Not surprisingly, the outcome was not freedom, but the entrenchment of structural racism.

And the sad fact of the matter is that improving education was never the true reason for free-market fundamentalists’ embrace of vouchers. As Friedman signaled in that first 1955 manifesto and argued for over a half century, school “choice” was a way station on the route to radical privatization. The vouchers were a tactic. The strategy they served was to stick parents with the full cost of their children’s schooling and the labor of finding and arranging it.

"In my ideal world, government would not be responsible for providing education any more than it is for providing food and clothing,” Friedman repeated in 2004 what he had long maintained. “Private charity would be more than ample to assure that there were schools available for every child." He was as frank in addressing a meeting of the American Legislative Exchange Council (ALEC) four months before his death in 2006. Said Friedman: “the ideal way [to give parents control of their children’s education] would be to abolish the public school system and eliminate all the taxes that pay for it.” In the real world, this would be engineered inequality so staggering that it would make today’s inequities look modest by comparison.

That is what today’s libertarian billionaire backers of vouchers, with Charles G. Koch in the lead, are keeping from the unsuspecting parents on whom the cause relies for electoral success, now Black and Latino as well as white. Vouchers, like freedom, are a horse to ride somewhere. The destination would shock most people, but soon it could be too late to reverse course.

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ER Doctor: Private Equity is Killing American Healthcare

Ever had a long wait in the emergency room?

Get hit with a medical bill you didn’t expect?

Fed up with a healthcare system focused on your wallet more than your well-being?

If you’re like most people, you’ve been wise to the fact that dollar-squeezing corporations and life-saving medicine don’t exactly go well together. When the bottom line is the top priority, patients are viewed as geese to be plucked and medical staff as dependent workhorses. The cost of healthcare goes up and quality goes down.

But you might not realize that it’s gotten even worse thanks to the private equity industry. Think of it as corporate medicine on steroids. In this model, doctors are “good” only if they generate steep profits for executive pockets. That goes for patients, too.

In the last couple of decades, private equity firms have set their sights on hospitals, a trend that picked up in the years before Covid-19 struck. The results are not pretty. Research indicates that hospitals taken over by private equity firms have higher markups and profit margins. They also hire less staff than other hospitals and spend less on each patient discharged.

Private equity firms have also taken over companies that staff hospitals, provide home healthcare, run nursing homes, and just about everything else connected to your health. The outcomes are just as concerning.

Take private equity firm KKR, which owns 15 health care companies, including Tennessee-based Envision Healthcare, a staffing company. According to the Private Equity Stakeholder Project, a watchdog organization, Envision is one of two big medical staffing firms associated with the problem of surprise medical billing in the United States. Its performance was so poor during the pandemic that it has considered filing for bankruptcy.

Bloomberg reports that the company found itself sinking under a $7 billion pile of debt following KKR’s takeover in 2018, and was unable to deal with the decrease in elective surgeries brought on by the coronavirus.

So why would a company taken over by a private equity firm face bankruptcy? After all, private equity proponents claim that the firms help businesses do better.

Researchers Eleanor Kagan and Eileen Appelbaum aren’t buying it. They note that often the private equity firm doesn’t care if it drives a company into bankruptcy because hefty fees and other tricks allow it to make money whether or not a company succeeds. She points to the case of Toys “R” Us, which ended up in bankruptcy -- with tens of thousands of employees laid off with no severance -- while the private equity firms that took it over brought in hauls of $15 million each in transaction fees.

What exactly do these firms do that makes them so problematic?

Private equity firms buy up distressed companies, often with borrowed money, usually hoping to make them more profitable so that they can eventually be sold at a tidy profit. Investors in these firms tend to be wealthy people and institutions, like pension funds or university endowments, looking for higher returns on their money than they would get on a public stock exchange.

Critics charge that too often, private equity firms get sneaky about driving down the price of a company before buying it. Then, once they get hold of a company, they take over the management (possibly in an area they know little about), often charge ridiculous fees, load the company up with debt (which the private equity firm isn’t liable for!), sell off assets, and send workers packing. All in the name of profitability. When private equity firms take over, critics complain, they aren’t concerned about relationships with long-time employees or the company’s standing in the community, but remain laser-focused on extracting as much money as possible and then leaving town, often with wreckage in their wake. In hospitals, for example, the spare capacity that you need for pandemic emergencies is just an overhead cost to be cut ruthlessly.

Sounds a bit like maximum profits for the few and maximum suffering for the rest. Detractors call it “vulture capitalism.”

Dr. Ming Lin knows firsthand how private equity impacts hospitals. At the beginning of the pandemic, he was working as an emergency physician at PeaceHealth St. Joseph Medical Center in Bellingham, Washington. Alarmed about inadequate safety measures to protect staff and patients, Lin complained through internal channels but found that his concerns went unanswered. So, he took to social media to share them. Lin was subsequently fired from a job he had held for 17 years.

It turns out that Lin’s hospital didn’t hire emergency room doctors directly, but used a corporation called TeamHealth, owned by the private equity firm The Blackstone Group.

The Blackstone Group is the Tyrannosaurus Rex of private equity, the biggest such firm on the planet, gobbling up so much real estate it is also now the world’s largest corporate landlord. It has been accused, among other things, of snatching up people’s homes during the housing crisis and operating them as a slumlord. Blackstone’s CEO Stephen Schwarzman is known for things like throwing himself a $3 million birthday party and comparing raising taxes on his industry to Hitler invading Poland.

Blackstone-backed TeamHealth offered to find Lin a new position in another state, or lower-paid, part-time work as a floating ER physician at other Washington hospitals. Lin refused to be cowed and is fighting back with a lawsuit against both PeaceHealth and TeamHealth.

He is one of a growing number of doctors speaking out about their belief that private equity firms and their cutthroat corporate profiteering do not belong in medicine, and that their presence is a threat to America’s health.

Since the pandemic has highlighted the weaknesses of a healthcare system in which patients often can’t get what they need and doctors wind up fearful of being pressured to violate their own standards, I ask Lin if we've had a wake-up call.

“We should have,” says Lin. “Of all the rich countries, the U.S. probably has the worst healthcare system in the world -- inefficient and expensive. And where is all this money going to? Physicians get paid pretty well in this country, but on the other hand, pay has been stagnant for the last decade or two. When you look at rising costs, it’s not going to physicians.”

Lin says the money is largely going into corporate pockets.

As a doctor, his realization that money was influencing the system in dangerous ways came gradually. “You’re admitting patients, then somebody tells you not to admit a certain patient because insurance or Medicare won’t pay it,” he explains. “Other times, the patient begs you not be admitted because last time their insurance didn’t cover it and they had to pay $10,000 or $20,000.”

Lin thinks the role of insurance companies in medicine is destructive: “Health insurance is a big part of corporate medicine and I’ve come to think of it as a scam,” says Lin. “The high deductibles -- you can go broke just paying your deductible. There’s surprise billing. It’s a mess.”

But during the course of his lawsuit and research into the subject, Lin has realized that there’s a lot more complexity in corporate medicine than just surprise billing and health insurance corporations. “The presence of private equity is making things worse,” Lin warns. “There’s now a grassroots movement amongst some doctors to try to push private equity out of medicine and to get due process for physicians.”

Due process is a big issue for emergency physicians, according to Lin. “Private equity is prohibiting due process for us,” says Lin. “When a private equity firm hires you to work for a hospital, you’re going to do whatever the hospital wants. If the hospital says to the private equity firm, hey, this doctor is making too much noise complaining, the private equity firm will get rid of them. That’s pretty much my situation.”

Lin is worried that the safety of patients is getting tossed aside. “It used to be that doctors and directors of hospitals were focused on making everybody safe,” says Lin. “But when you work for a private equity company, you want to preserve that contract. If a patient’s safety is a concern, a doctor may feel pressured not to report it. You may be reprimanded if you do.”

Lin paints a disturbing picture of an incentive structure negatively impacting care. “Let’s say there’s a bad or negligent surgeon,” says Lin. “As an ER doctor, you don’t want to refer your patients to that person. But the hospital rule might be that you have to refer patients to that surgeon no matter what, and if you speak out, you might get in trouble because the hospital doesn’t want anybody to know. If the surgeon is making a lot of money for the hospital, then why would it want to get rid of them?”

Lin notes that it used to be that the decision about a doctor’s competence was made by the medical staff at the hospital. But the hospitals, under the influence of private equity firms, have found ways to control the staff and ensure that money-making doctors continue to practice, even if they are incompetent. Lin would like to see more independence among physicians “so they can say hey, so-and-so is not mentally, emotionally, or physically competent to practice.”

“And it’s not just medicine that gets compromised,” complains Lin. “In trying to get media attention for this issue, I’ve become aware that the media is compromised – publishers are unwilling to print stories even when the editors want to. The law is compromised. Professional organizations are compromised. So what chance do we have?”

Lin points out that the constraints Americans face when they speak out against corporate behavior can be just as repressive as what we think of happening under authoritarian regimes, like China. “It’s actually kind of similar,” says Lin. “Doctors can lose their jobs and their livelihoods if they don’t retract their statements or apologize. In my experience, HR doesn’t investigate or take complaints seriously. HR sees its job as putting out the fire.”

Lin considers himself one of the lucky ones. He misses practicing emergency medicine and doing direct patient care, but feels fortunate that he has a job doing administrative work and supervising emergency rooms for the Great Plains Indian Health Service. “Others who complain aren’t so lucky,” says Lin. “If they get fired, they may have a very hard time finding another job.”

Maybe it’s time for America to find another healthcare system? Preferably one without Wall Street honchos calling the shots.

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Nanjala Nyabola: COVID-19 and Africa: Techno-solutions won’t save us from the problems we face

Starting with a general question - how, in your view, is the COVID-19 pandemic affecting digital transformation in Africa?

I have never been a big champion of the idea of “digital transformation”. We always try to push back some of the more uncomfortable questions and create a utopian view of technology, when the lived experience of many countries shows that it's a little bit more complicated than that. Trying to skip over complicated social and political questions does ourselves a disservice. And for me, the idea of digital transformation puts too much emphasis on the capacity of technology to change our society and neglects our own agency in doing this ourselves. Like all crises, I would say that COVID-19 has presented both challenges and opportunities. The challenges are obvious: the healthcare systems are stressed, public health in many African countries is struggling, there is a rising death rate, heavy costs to the economy from all the lockdowns, and rising inequality which has become really apparent. The challenges are all around us, but the opportunities have also been interesting. African countries are now thinking concretely about manufacturing and distributing vaccines, with the technology and investments that spin-off from this. They’ve been looking at new ways of managing travel and mobility, progress has been made on the Africa free trade agreement, as has work on the African passport, and systems for monitoring travel.

I am encouraged that despite the challenges we're facing, which are truly once in a generation - a “make or break” moment for humanity - that there's still a lot of positive energy. It's remarkable that there's a lot of impetus to think beyond the crisis, and to ask: how can we use technology and innovation to build back stronger and more creatively? I've always maintained that digital is part of a larger tapestry of measures. It's not something to be thought of out of context, but within the context of the societies experiencing these challenges. One thing that's become apparent is that a lot of countries spent large parts of their budgets on shifting towards tech-based solutions, when that money would have been better spent paying doctors and nurses. In Kenya, the government promised a laptop per child, and that didn't happen. And so when the children stayed at home when schools got closed during the pandemic, they didn't have any way of staying updated with schools. At the same time, it was remarkable to have gone from no African country being able to test for COVID in January 2020 to every single African country being able to test for COVID three months later. The real challenge now is going to be how to stay focused on the priorities. How do we avoid the attractions of tech solutions derailing us from the really deep structural issues that also need our attention?

Does this pandemic represent an opportunity for African governments to rethink the role of innovation, technology and digitalisation in their countries’ development models?

Absolutely. Again, we've been reminded to set clear priorities. WE shouldn’t focus on technology for its own sake, it has to be embedded in the broader demands for justice, equality, service delivery, and respect, all of which make society function. We've been reminded that even if you build the most sophisticated app, if you're not building it with normal human beings in mind, it's not going to help you with the core questions you seek to address. At the same time, there has been remarkable innovation - take Kenya, where the vaccine tracking system is entirely digital, and decentralized. Every vaccination centre contributes to building the database, and people get the vaccination record on their phone. Now, granted there aren't that many people in Kenya, or Africa as a whole, who've been vaccinated - only 500,000 to 600,000 so far (at the time of interview) - but it’s a good example of building technology in context. Mobile phones are the primary way through which most people in Kenya access the internet, so having that record on your phone is actually incredibly helpful and enables the person to travel around the country and wider region with relative ease. It's focused on a simple solution, rather than an elaborate form of digital ID that would have required a much more expensive infrastructure. That's the kind of tech we want to see. It's not about taking the most beautiful platform and throwing a lot of money at it. It's about building a system that works best for the people, and meshes with their needs, their capacities, and also with the financial capacity of the country. We don’t want to spend more on the vaccine tracking system than on buying vaccines.

These are the tough questions a lot of poor countries, not just in Africa but around the world, have to consider, and then order their priorities and spend accordingly. There are many encouraging signs that the message is getting through and the right balance being reached. Techno solutions are not going to save us from the bigger problems we face, like lack of access to vaccines in the face of this pandemic. It's not just about tech, but goes back to the fundamentals of human beings and society, getting treatment to sick people and protecting them from illness.

Have you also observed a specific gendered effect on digital access since the beginning of the pandemic?

For sure. Gender disparities have been embedded in the way tech is rolled out. Again, this is not a uniquely African problem, but is found in many societies. A GSMA report found that women were 20% less likely than men to use the internet, and while that is a reduction from the 28% of the previous year, it’s still a gap. The same report found that South Asia has the biggest gender disparity at 51%, but it is a huge problem in a lot of countries because of the way that societies are structured and what technology represents. The majority of people in poor countries connect to the internet through their mobile phones, which represent a luxury item or an essential business tool. Within the family, young women and girls are the least likely to have access to a mobile phone and therefore by extension to the internet. So young women faced a big problem by losing access to education during the lockdowns, when schools were shut, and had no access to the internet either. In a number of African countries there has been a spike in teenage pregnancies triggered by conditions during the pandemic, representing a major loss of educational opportunity for young women.

I keep saying that the pandemic represents a generational shock or crisis, which will determine what the next 100 years look like. If young women get locked out of this big shift - when we're moving to a digital first system, for tax payments, ID systems, driver's licence, everything - then we're setting back young women by a generation or more. It's definitely a concern in many countries and why it's so important to have sociologists and anthropologists who examine these inequalities. These are not things that technology is going to fix. Rather, we have to understand our societies in order to make sure that our responses reflect the realities of how our societies are structured.

Do you think that the exercise of digital rights has been even more restricted and challenged with the ongoing pandemic in Africa?

There has been an effort to undermine the right to privacy, which is a cornerstone of digital rights. The process of building digital passports and a digital vaccine system has been based on tracking people, finding out where they’re going and who they're meeting up with. In Singapore, even though there was a promise that tracking data would be private, it ended up not being private and the data that was being collected was handed over to the police. Some countries are using tracking data to control migration, which is a clear violation of digital rights. The pandemic requires good policy in the short, medium and long term. For governments and for policy makers in government, the challenge with digital rights is how to balance short term gains with the long-term risk; but violating digital privacy and digital rights in the short term with the idea that we will recover them in 20 years, in 30 years is not realistic. It doesn't work.

It's much easier to give rights away than to get them back. There has been a constant push and pull, and an overreach in many countries, in which a desire to expand surveillance, constrain privacy, and track people’s movement has become a real threat. In a lot of African countries, we’ve been saved from this because surveillance kit is expensive, and governments have suffered a big fall in revenue from the lockdowns, economic hits, and falling tourism. That's really the buffer that has been keeping people safe for now, but it might not always be this way, and the pandemic isn't over yet.

I was also thinking of some governments, the latest being Nigeria, for instance, cutting digital access to certain platforms and social networks. Do you have the impression that governments are increasingly seeking to control digital access by their citizens, using the pandemic as cover?

This tendency was already coalescing before the pandemic. Tanzania was the latest one. But in 2021, Nigeria has banned Twitter, Uganda shut down social media for three weeks, Tanzania shut it for six weeks, and Chad had a shutdown around the death of the president. Nigeria is so far the biggest to have done it, in terms of population size and the economy. But it's definitely a growing trend amongst governments over recent years, to stop people from criticizing them, and pushing back against the official online narratives. This executive overreach through shutting digital platforms down is going to continue; it fits into the broader expansion of authoritarianism around the world. Governments are less tolerant of criticism and more excessive in the way that they respond to criticism. For instance, Belarus diverted a commercial plane in order to arrest a journalist and his girlfriend; people in Hong Kong are sent to jail for many years for protesting, it's part of a broader picture in which authoritarian patterns are growing. African countries are no exception to this rule, but they could choose to be an exception by providing more democratic responses.

COVID represents a really major opportunity to decide what the next 50 or a hundred years could look like. If states succumb to the authoritarian impulse and push the line ‘we don't want to hear any criticism’, ‘we don't want to hear any pushback’, then unfortunately the next 50 years will be characterized by a silencing of civilians and critics of the state. It's part of a broader issue that the pandemic makes more complex and urgent.

As they say, a crisis should never go to waste. What do you think are the two or three key shifts in regulation that are required, not only at the national but also at the sub-regional level such as ECOWAS, and continent-wide? How might new regulations re-shape the digital economy for the next 10 to 15 years and lead to a more inclusive digital transformation?

I've been listening into a lot of the digital policy conversations taking place at the African Union. And I think that our policy makers, at regional level, still assume that they need only deal directly with governments, and hence they ignore citizens. The interest in preserving the integrity of states has unfortunately outweighed the interest in preserving the dignity and safety of Africa’s people, so we have lost the right priorities and balance. The conversations about digital policy focus on regulation, cyber security, and computer security, a series of threats, rather than looking at rights, dignity and inclusivity. The people who work on digital rights in Africa have been exclusively in civil society, operating outside the state. We need governments in Africa to start seeing digital rights as their responsibility, one of the state’s obligations. This would imply stopping the view of civil society as part of the opposition, but instead one of the pillars of governance and society. We were in meetings last month with government where we asked ourselves – when at any point did you consult civil society, and the digital rights activists who have been working on these issues for the last 10 years? Lack of any consultation by government means that policy ends up tilting power in favour of government, instead of the people.

Let's engage in dialogue and conversation with civil society, which has been working on these issues. Let’s put the African citizen at the centre of our policymaking rather than the African state. The state might not exist in its current form in future years; the structure of states changes all the time. South Sudan only became independent in 2011. If we privilege the survival and strengthening of the state, over the protection of the citizen, we end up creating opportunities for harm. We end up creating policies that say it doesn't matter that X number of people, of minorities lose their lives or lose their access to services, because the cybersecurity of the state is guaranteed and that's more important. In Kenya, for example, some argue that it doesn’t matter if some Somali people are not able to get ID cards, because it's about the security of the government. As a result, many Somali people (from Somalia) living in Kenya have a really hard time getting basic services, and access to bank accounts. That is same with the Nubians (from Sudan) living in Kenya. These are the tensions that we have to be honest about. And I think we could navigate them by having an honest conversation about how civil society could be part of the policy making process in which the individual and the rights of the individual are placed firmly at the centre.

Nanjala Nyabola is also a founding member of the Africa Digital Rights Network (ADRN) and a fellow at the Centre for International Governance Innovation (CIGI), the Digital Forensic Lab at the Atlantic Council, The Centre for Intellectual Property and Information Technology (CIPIT) at Strathmore University, and the Centre for Human Rights and Global Justice (CHRGJ) at NYU. She has published in several academic journals including the African Security Review and The Women's Studies Quarterly, and contributed to numerous edited collections. Nyabola also writes commentary for publications like The Nation, Al Jazeera, The Boston Review and others. She is the author of Digital Democracy, Analogue Politics: How the Internet Era is Transforming Politics in Kenya (Zed Books, 2018) and Travelling While Black: Essays Inspired by a Life on the Move (Hurst Books, 2020).

About the COVID-19 and Africa series: a series of conversations conducted by Dr. Folashadé Soulé and Dr. Camilla Toulmin with African/Africa-based economists and development experts about their perspectives on economic transformation and how the COVID situation re-shapes the options and pathways for Africa’s development - in support of INET’s Commission on Global Economic Transformation (CGET)

Contact: folashade@ineteconomics.org

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Why the Rich Get Richer and Interest Rates Go Down

In the waning days of August, in a world beset by the unending COVID19 public health crisis, by increasingly frequent extreme climate events, and by the terrible news from Afghanistan, the world’s central bankers, the rich, and the influential gathered (online) for the Federal Reserve Bank of Kansas City’s annual Jackson Hole symposium. The title of this year’s Economic Policy Symposium was “Macroeconomic Policy in an Uneven Economy.” Few observers were paying attention and most had low expectations, knowing that central bankers are caught in a catch-22: they cannot lower interest rates (already at the zero-lower bound) to boost the economy, and they cannot raise rates, because the current high private and public debts are sustainable only at very low interest rates. Likewise, central bankers are unable to discontinue their accommodative (QE) policies, because this would abruptly end the irrational exuberance in financial markets and risk another global financial crash. Indeed, Fed chair Jay Powell’s speech was predictably careful, cautiously outlining how the Fed will continue its accommodative policy, while steadily monitoring data for signs of persistent broad-based inflation. No news from the monetary policy front, in other words.

However, one of the contributions to the symposium, a paper by Atif Mian, Ludwig Straub, and Amir Sufi (2021), managed to make headlines in the New York Times and the Financial Times (amongst others). The authors argue that high income inequality is the cause, not the result, of the low natural rate of interest r* and high asset prices evident in recent years. “As the rich get richer in terms of income, it creates a saving glut,” Professor Mian told the New York Times, “The saving glut forces interest rates to fall, which makes the rich even wealthier. Inequality begets inequality. It is a vicious cycle, and we are stuck in it” (Irwin 2021). In the same New York Times article, Professor Sufi is quoted, saying “These forces pushing down r-star are probably so powerful that the Fed could never fight against them.” Thus, central bankers are “in this story, […] the equivalent of drivers on a highway who must adapt their speed to road conditions. The Fed has kept rates low for the past decade because those rates have been the ones that keep the economy stable. If it had tried to push them higher, the result would have been a recession.” (Irwin 2021) This message must have been music to the ears of the beleaguered central bankers, and balm for their troubled souls, because, if true, it absolves them from the responsibility for having landed the economy in the catch-22 of low interest rates, excessive indebtedness, and over-inflated asset prices.

The problem with the analysis by Professors Mian, Straub and Sufi (2021) is that it is incoherent on its own terms (i.e. even if we accept the deeply problematic notions of a natural rate of interest and the loanable funds market) and quite at odds with the realities of saving in modern economies. My critique comes in three parts.

The first problem concerns the empirical evidence: the authors incorrectly focus on the increase in the household saving rate, but surely what should matter for their argument is the aggregate savings rate, the rate for the economy as a whole. I will show below that the aggregate savings rate of the U.S. did not rise, which means that even if household savings increased, there was no aggregate saving glut and hence no reason for r* to decrease. This already means that the key argument makes no sense on its own terms.

Secondly, Professors Mian, Straub and Sufi argue that the increase in the average household saving rate must have been caused by a change in household preferences: U.S. households have, on average, become more patient and willing to postpone consumption (today) in favor of higher savings and higher consumption in the future. The authors thus conclude that the ‘rate of time preference’ of the average U.S. household has declined — which (in their reasoning) is also the reason that the natural rate of interest r* has declined.

Unfortunately, their own empirical findings of changes in the class-wise household saving rates contradict this conclusion. Their empirical evidence shows that “the saving rate of the top 10% group in the post-period is similar to the pre-period. [….] the saving rates of the bottom 90% fall considerably” (Mian, Straub and Sufi 2021, p. 21). With savings rates for one group unchanged and the other 90% of the population consuming more, the rate of time preference of the average U.S. household must have increased — which is the exact opposite of what the authors conclude.

However, the biggest problem of all is that there is no such thing as a market for loanable funds. The irrelevance of this old Wicksellian story has been explained many times, starting with Keynes (1936, 1939), but more recently by Lindner (2015), Taylor (2016), and Storm (2017). Banks pre-finance investment; investment creates incomes; people save out of their incomes; and at the end of the day, ex-post savings equal investment. This is what Bank of England economists Jakab and Kumhoff (2015) write:

“…. if the loan is for physical investment purposes, this new lending and money is what triggers investment and therefore, by the national accounts identity of saving and investment (for closed economies), saving. Saving is therefore a consequence, not a cause, of such lending. Saving does not finance investment, financing does. To argue otherwise confuses the respective macroeconomic roles of resources (saving) and debt-based money (financing).”

There exists no market for ‘savings’ and ‘investment’ which is cleared by an equilibrium interest rate, and, hence the savings glut story of Professors Mian, Straub and Sufi (2021) makes no sense.

This note reviews the three weaknesses mentioned above and concludes that it is incorrect to view central bankers as mere “drivers on a highway who must adapt their speed to road conditions”; instead, it makes more sense to regard central bankers as the main traffic control which regulates and enforces traffic volume, speed and road conditions, in normal times and during emergencies. Together with governments and establishment economists, central bankers carry much of the responsibility for the increased inequality, slow growth, high debts, and over-inflated asset prices, however much Professors Mian, Straub and Sufi try to persuade us to believe otherwise.

What explains the secular decline in r*?

Before proceeding to the critique, let us first consider the argument by Mian, Straub and Sufi (2021). The paper considers two explanations of low interest rates:

(1) increased household savings, driven by the baby-boom generation’s accumulation of retirement savings; this is the demographic explanation (see Goodhart and Pradhan 2020).

(2) Increased household savings, driven by higher income (and wealth) inequality, given the fact that rich people save a larger share of their income than the middle class and the poor; this is the ‘inequality’ explanation.

Using data for the U.S. during 1952-2019, Mian, Straub and Sufi find that the impact of higher inequality overwhelms the influence on household savings from demographics. Their evidence shows that, across all birth cohorts, higher-income households have significantly higher saving rates than lower-income households — which is a stylized fact that has been known for ages, see e.g., Saez and Zucman (2016) and Taylor (2020).

Figure 1 reproduces the findings of Mian, Straub and Sufi (2021): the differences in saving rates between age groups (birth cohorts) in the right panel are much smaller than the differences in saving rates between the top 10%, next 40%, and bottom 50% of households within-birth cohorts in the left panel. Mechanical life-cycle effects do not matter much and what is more, the findings of Figure 1 also disprove the assumption of a constant saving rate out of lifetime income across all households that underlies most macro models.

Clearly, inequality is not just an end-of-pipe distributional outcome, but a central determinant of macroeconomic dynamics. To see this, note that the income share of the higher-saving top 10% of households increased — from about 30% in the early 1970s to 43% in recent years — and the income shares of the lower-saving next 40% and bottom 50% declined. Given the differential saving rates (recorded in Figure 1), the increased inequality did indeed raise the overall private saving rate in the U.S. by more than 3 percentage points of national income every year. This represents more than one-third of average annual private savings in recent years, or more than $ 0.6 trillion of additional annual savings. “The rise in income inequality leads to a large rise in saving,” conclude Mian, Straub and Sufi (2021, p. 21), “and therefore is a likely culprit when assessing forces that push down r∗.”

Figure 2 summarizes the argument of Mian, Straub and Sufi (2021). The fact of greater income inequality is taken as a given, perhaps as a result of technological progress, globalization, etc. – all factors beyond the control of central banks. Given differential saving rates by income classes, higher income inequality led to a pile-up of household savings, and a secular decline in the natural rate of interest r* (the red arrow in Figure 2) given this relative abundance (more on this below). The idea is that central banks had to adapt to the configuration of historical forces and thus lowered interest rates; in turn, cheap credit fuelled asset-price inflation, and with the top 10% richest households benefitting most from the resulting wealth gains, inequality spiraled up further, leading to another round of increased savings, lower r* and wealth gains.

This, indeed, is the bottom line of the paper by Mian, Straub and Sufi (2021): central bankers, even those at the Fed, the world’s most powerful central bank, have far less power in managing the macroeconomy than is commonly believed, and the best they can do is to adapt to the natural forces of technological progress and global integration, rather than attempting to go against these inexorable currents. Accordingly, the task of the ‘science’ of monetary policymaking is limited: to follow and adapt to what is happening anyway — bending along in ways that maintain economic and financial stability. The way they frame their argument, the authors manage to kill two birds with one stone: on the one hand, they succeed in de-politicizing and ‘naturalizing’ monetary policymaking by invoking the troubled notion of the natural rate of interest r* — and on the other hand, they manage to ‘naturalize’ inequality by removing monetary policy as a key driver of growing income concentration and primarily attributing it to the ‘impersonal forces’ of technological progress and globalization, which arguably are mostly beyond policy control.

First problem: despite the rise in inequality, there is no savings glut

If Professors Mian, Straub and Sufi are right that high inequality is the cause of the low interest rates, then we should observe an increase in aggregate savings in the U.S. Surely, the natural rate of interest r* is determined not just by household savings, but by aggregate savings.

Aggregate savings, as we know from the national accounts, consist of savings by households, business, and government as well as foreign savings (which by accounting convention are equal to the difference between imports and exports). As is shown by Figure 3, the aggregate saving rate of the U.S. remained quite close to its long-term average of 25.8% (of national income) and does not exhibit a rising trend. There is no American savings glut, in other words – however much Professors Mian, Straub and Sufi would like to persuade us that there is an over-supply of savings.

However, we can see in Figure 3 that the composition of aggregate savings changed. The saving rate of households averaged 11.7% (of national income) during 1980-85 and 6.7% during 2003-08; with rising income inequality, the household saving rate increased to an average of 9.7% during 2015-2019. But, all along, the aggregate U.S. saving rate remained more or less the same, because the other sources of saving offset the changes in household saving. Specifically, as the household saving rate rose during the previous decade, the government saving rate and the foreign saving rate (the trade deficit) declined; government savings even turned negative (Figure 3).

This is not surprising, because the increase in income inequality led to higher household savings, lower demand, and slow growth, which in turn contributed to an increase in public deficits and a decline in the trade deficit (because of slower import growth).

Figure 4 shows the “natural rate of interest r*”, as constructed by Mian, Straub and Sufi (2021) themselves, and the national savings rate in the U.S. during 1961-2020. Their construction of r* exhibits a statistically significant downward trend, declining from an average of 5% during the 1960s to an average of 0.68% during 2011-2020. But as we saw already in Figure 3, the national savings rate of the U.S. shows no trend: it was 26.1% in the 1960s, 26.6% in the 1970s, 27.7% in the 1980s, 25.6% in the 1990s, 25.2% during 2001-2010, and 24% during 2011-2019. Even in 2019, the national savings rate was 25%.

Three conclusions follow:

1. Changes in the supply of savings (loanable funds) cannot possibly explain the secular decline in the natural rate of interest r*.

2. To the extent that higher income inequality increased household savings, this did not lead to an increase in (aggregate) national savings, because other sources of savings (notable, public savings and foreign savings) declined. This is not surprising, because the higher average household savings depressed demand and economic growth, lowering public and foreign savings as a result.

3. The secular decline in the natural interest rate r* cannot, therefore, in any way be attributed to rising income inequality.

The key proposition of Mian, Straub and Sufi (2021) holds no water.

Second problem: the rate of time preference of most U.S. households increased rather than declined

Mian, Straub and Sufi (2021) calculate the natural rate of interest r* using the model of Laubach and Williams (2003). They determine r* as a function of potential output — the level of output supposedly consistent with stable inflation. I must note here that there is absolutely nothing ‘natural’ about r* — its value depends on the magnitude of the inflation target, set by the central bank, and also on the central bank’s understanding and measurement of ‘potential growth’. This unobservable concept is known to be slippery in the extreme (see Costantini 2015; Fontanari, Palumbo and Salvatori 2021). The argument is really that r* is just the interest rate which the central bank believes to be consistent with keeping inflation stable at its chosen inflation target.

Without much formal ado, Mian, Straub and Sufi next interpret the secular decline in r*, which is what they find (see Figure 4), within the context of the standard representative-agent Ramsey model. They do so in order to be able to give a ‘micro-founded’ explanation of the puzzle of rising household savings and a declining r*. In the Ramsey model, r* is a function of the ‘rate of time preference’ of the rational (optimizing) representative agent.[i] Hence, Mian, Straub and Sufi argue that the decline in r* (for the U.S.) could only have occurred due to a steady decline in the rate of time preference of the average U.S. household. A lower rate of time preference means that the preference of the representative agent to consume today has become less strong. As a result of this change in one of the deep behavioral parameters of average consumer behavior, the representative agent will increase her savings rate. It needs no elaboration that this ‘explanation’ involves a leap of logic because the Ramsey model has only one representative household and cannot tell us anything useful about the impact of higher inequality (between various income classes) and r*.

But things get worse. I do not see how the above reasoning why r* decreased helps explain the actual increase in savings of U.S. households. After all, the empirical evidence of Mian, Straub and Sufi shows that the increase in the average saving rate of U.S. households is caused by a significant change in income distribution in favor of the higher-saving top 10% of households, and not by a fundamental change in some deep parameter of household behavior, which then led to increases in the saving rates of the three income classes. In fact, Professors Mian, Straub and Sufi (2021, p. 21) write that “the saving rate of the top 10% group in the post-period is similar to the pre-period. [….] the saving rates of the bottom 90% fall considerably” (italics added).

This is shown in Table 1. The average annual saving rate of the bottom 50% of U.S. households declined by 9.4 percentage if one compares the periods (1963-82) and (1995-2019); their saving rate is negative (-6.8%) in the recent period. The average annual saving rate of the middle 40% of U.S. households declined by 3.8 percentage points between the two periods, whereas the saving rate of the richest 10% remained more or less unchanged.

Table 1

Saving rates by income groups, U.S. (1963-82/1995-2019)

	saving rate (1963-1982)	change in saving rate	saving rate (1995-2019)
Top 10%	0.253	0.007	0.260
Next 40%	0.082	—0.038	0.044
Bottom 50%	0.026	—0.094	—0.068

Source: Mian, Straub and Sufi (2021), Table 1.

Hence, in terms of the concocted logic of the Ramsey model, this must mean that the rate of time preference has remained unchanged for the top 10% of U.S. households, while it must have strongly increased for the other 90% of U.S. households.[ii] Oddly, Professors Mian, Straub and Sufi conclude that the rate of time preference of the representative household has declined. This shows that invoking the Ramsey model to make one’s argument look more ‘scientific’ is not without risk — because the representative household turns out to be not so representative after all.

Anyway, the fact that the average saving rate of U.S. households increased in recent times is not disputed. For Mian, Straub and Sufi, it follows that the natural interest rate r* must have fallen to allow the transformation of the higher savings into higher investment. This final step in their argument brings us, therefore, to the market for loanable funds — where savings constitute the supply of funds and the demand for loanable funds comes from business investment. The argument by Mian, Straub and Sufi boils down to a conventional ‘savings glut’ narrative, with the narrative twist here being that the glut is caused by higher income inequality.

Final problem: the loanable funds market does not exist

In my view, the biggest problem with the argument of Professors Mian, Straub and Sufi (2021) concerns the claim that a glut of savings causes the natural interest rate r* to fall. The simple (but incorrect) idea is that an excess supply of savings (relative to investment demand) must lead to a decline in the ‘price’ of savings, which in this story is the interest rate. Savings constitute the supply of loanable funds, while investment represents the demand for loanable funds, and similar to the market for potatoes or wooden shoes, an excess supply depresses the market price. This ‘market for loanable funds’ is illustrated in Figure 5: the curve for the supply of loanable funds shifts to right (because savings increase, at a given rate of interest, because of rising inequality), and the new equilibrium interest rate r* is lower than before. If this sounds like J. B. Say, it’s because it is. Because all savings (in this story) are converted into investment, equilibrium interest rate r* ensures that the economy is operating at its potential; hence, r* is labeled the ‘natural rate of interest’.

Through textbooks and papers published in the so-called top journals, the loanable funds model has been hard-wired into the belief system of most economists, even if it was shown to be a myth already more than eighty years ago by John Maynard Keynes (1936). The utter irrelevance of the loanable funds model for our monetary production economies is explained more recently by Lindner (2015), Taylor (2016), and Storm (2017). Suffice it to say that (business) investment is not financed by (already available) savings, but by (newly created) bank credit, and the volume of bank credit depends on banks’ ability and willingness to provide credit; crucially, banks are not just intermediaries pushing around existing money, but money-creating institutions which can make new money ex nihilo — a point both the Fed and private banks understand very well, as their behaviour during bailouts shows. Pointing out the loanable funds fallacy, Keynes wrote in “The Process of Capital Formation” (1939): “Increased investment will always be accompanied by increased saving, but it can never be preceded by it. Dishoarding and credit expansion provides not an alternative to increased saving, but a necessary preparation for it. It is the parent, not the twin, of increased saving.”

In sum, trying to make sense of their empirical findings on inequality and household savings for the ‘real world’, Professors Mian, Straub and Sufi end up telling us a completely fictitious story of a non-existing non-representative agent who for some unexplained reason lowers her rate of time preference and raises her savings, with the ultimate result that a non-existing natural rate of interest r* goes down in some fictitious loanable fund market. Some economists urge us to see economics as ‘storytelling’ (Shiller 2017), but surely the fact-and-fiction-blurring surrealism by Professors Mian, Straub and Sufi is taking this idea of a ‘narrative economics’ to an altogether different level.

An alternative, far more plausible explanation

Let me conclude by offering a more plausible narrative to explain why higher inequality did cause low interest rates and over-inflated asset prices. The alternative explanation is shown in schematic form in Figure 6.

The key driver of rising income inequality is the stagnation of real wage growth for the bottom 80% or so of U.S. households (Taylor and Ömer 2020). Real wage growth was suppressed below labour productivity growth, and this led to a secular decline in the share of wages (and a rise of profits) in national income. The main cause of the wage growth suppression has been the abandonment of full employment as the primary target of macro policy-making, in favour of inflation control, at the end of the 1970s. Fiscal policy was deprioritized in favor of monetary policy, conducted by independent central banks, single-mindedly focused on building credible reputations as inflation hawks, and counter-cyclical fiscal stabilization was made anathema by subjecting fiscal policy-making to rigid and deflationary rules, irrespective of the business cycle. For a period of time after the global financial crisis of 2008, austerity zealots, dreaming of expansionary fiscal consolidations, intensified the fiscal repression, bringing about one of the slowest and most costly economic recoveries from a crisis in history.

Labour markets were enthusiastically deregulated, with the explicit and generous approval of central banks and governments, to break the structural inflationary power of unions and to create a flexible reserve of surplus workers with no choice but to work in temporary low-wage jobs in what is now known as the ‘gig’ economy. Globalization and offshoring contributed to breaking the countervailing power of organized workers because they offered corporations (the threat of) an opt-out possibility that was not available to workers. Taken together, the change in macroeconomic policy regime produced a structurally low-inflation economy, based on ‘traumatised workers’ in precarious jobs, who could not plausibly fight for higher wages and more secure employment conditions, given their daily struggles and the systemic biases they are facing. The wellspring of cost-push inflation had been radically removed.

Stagnant wages and incomes for the 90% mean that income (and wealth) inequality rises and that aggregate household savings go up (as shown by Mian, Straub and Sufi). Higher household savings reduce consumption demand, which holds up fixed business investment for the domestic market. In effect, aggregate demand growth stagnates, and pressures for demand-pull inflation evaporate. With inflation (and expected inflation) being low in structural terms, central banks lower the interest rate, in accordance with the recommendations based on the monetary policy rules proposed by establishment economics.

The low interest rates, in turn, fuel asset-price bubbles, creating wealth gains for the rich, and over-indebtedness for the bottom 90% of households, which use cheap credit to finance essential expenses on education, medical care and housing. This reinforces wealth and income inequalities, and pushes up asset prices even more, but this does not lead to higher economic growth and better jobs, because the richest 10% use their savings and wealth gains not for investments in the real economy, but to speculate in financial markets. The past two decades have made it abundantly clear that the gains made by the top 10% in financial markets do not trickle down to the real economy.

The low interest rate is, therefore, not a ‘natural’ rate at all, but a highly un-natural rate, which is imposed on a stagnating and highly unequal economy by central bankers who have no reason to raise rates (since structural inflation pressures have been eroded) but who cannot lower them further (because of the zero-lower bound). More than a decade ago, central bankers reached the end of the road when it comes to interest rate policy, and they were left with the option to revive the real economy by means of unconventional QE. In the present system, and given establishment thinking, this was probably the only — and therefore best — option left to central bankers, but while QE did succeed in preventing another crisis and keeping the economy on life-support, it failed to revive the real economy and enhanced the already considerable asset-price inflation. Monetary policy-makers find themselves in a catch-22, and they have themselves to blame for this.

So, what is the way out of the impasse, if there is one? The only way involves a rethinking of the dominant macroeconomic model, a reprioritization of full employment as the prime target of macro policy, and a return of active fiscal policy, supported (but not constrained) by monetary policy. Higher wages, progressive redistribution (not just of income, but also of wealth), and more public spending, financed by progressive taxes and generating balanced-budget multiplier effects, constitute essential ingredients in any sensible macroeconomic strategy.

Macroeconomists must give up the fatalism implied by using concepts such as the ‘natural’ rate of interest or the ‘natural’ unemployment rate. Central bankers cannot hide behind such metaphors and diminish themselves to being mere “drivers on a highway who must adapt their speed to road conditions.” There is nothing ‘natural’, inevitable, or preordained about economic concepts, as these are all social constructions. There is nothing natural about the current Catch-22, which was created with the active help of monetary policymakers and establishment economists, who try to shift responsibility on what they label ‘natural forces’. Instead of the fatalism of establishment economics, we must return to the work of economists who did not evade responsibility and used economic thinking to understand the world and to improve it.

References

Armstrong, R. 2021. ‘The rich get richer and rates get lower.” The Financial Times, August 21.

Costantini, O. 2015. “The Prince('s) Rules: Economic Theories and Political Struggle in Europe.” INET Working Paper. New York: Institute of New Economic Thinking. https://www.ineteconomics.org/uploads/papers/costantini_cab_shorter_version_for_INET.pdf

Fontanari, C., A. Palumbo and C. Salvatori. 2021. ‘The Updated Okun Method for Estimation of Potential Output with Broad Measures of Labor Underutilization: An Empirical Analysis.’ INET Working Paper 158. New York: Institute of New Economic Thinking. https://www.ineteconomics.org/...

Irwin, N. 2021. ‘Some say low interest rates cause inequality. What if it’s the reverse?’ The New York Times, August 28.

Jakab, Z. and M. Kumhof. 2015. ‘Banks are not intermediaries of loanable funds — and why this matters.’ Bank of England Working Paper No. 529. London: Bank of England. https://jrc.princeton.edu/sites/jrc/files/jakab-kumhof-boewp529.pdf

Keynes, J.M. 1936. The General Theory of Employment, Interest and Money. London: Macmillan.

Keynes, J.M. 1939. “The process of capital formation.” The Economic Journal 49: 572-573.

Laubach, T. and J.C. Williams. 2003. “Measuring the natural rate of interest.” Review of Economics and Statistics 85 (4): 1063–1070.

Lindner, F. 2015. “Does saving increase the supply of credit? A critique of loanable funds theory.” World Economic Review 4: 1-26.

Mian, A., L. Straub, and A. Sufi. 2021. “What explains the decline in r∗? Rising income inequality versus demographic shifts.” Paper prepared for the 2021 Jackson Hole Economic Symposium hosted by the Federal Reserve Bank of Kansas City. https://www.kansascityfed.org/...

Saez, E. and G. Zucman. 2016. “Wealth Inequality in the United States since 1913: Evidence from Capitalized Income Tax Data.” Quarterly Journal of Economics 131 (2): 519-578.

Shiller, R.J. 2017. “Narrative economics.” American Economic Review 107 (4): 967-1004.

Storm, S. 2017. “What mainstream economists get wrong about secular stagnation.” INET. https://www.ineteconomics.org/...

Taylor, L. 2016. “The “Natural” Interest Rate and Secular Stagnation: Loanable Funds Macro Models Don’t Fit the Data.” https://www.ineteconomics.org/...

Taylor,L. and O. Ömer 2020. Macroeconomic Inequality from Reagan to Trump: Market Power, Wage Repression, Asset Price Inflation, and Industrial Decline. Cambridge: Cambridge University Press.

[i] This ‘rate of time preference’ is yet another unobservable variable. It cannot be measured directly and is in principle unknowable; it is calculated as the difference between r* (measured following Laubach and Williams (2003)) and the growth rate of potential output. Hence, in plain English, what the authors are saying is this: “we don’t have a clue why r* declined, but we believe that it is caused by the fact that the average U.S. household has become more patient and more inclined to save today to have higher consumption in the future. Our justification for concluding this is that we believe that the natural interest rate r* has declined.”

[ii] The increase in the ‘rate of time preference’ of the bottom 90% of U.S. households is a total misnomer for what has been happening; America’s poor and its middle class live on the razor’s edge of financial security throughout their working years and are uniquely ill-prepared for retirement; for them, lowering savings has nothing to do with a free and ‘rational’ decision to consume today versus consuming tomorrow; rather, it reflects the fact that dire circumstances forced distressed and often indebted households to lower their savings, following the financial crisis of 2008 and the subsequent recession and stagnation.

The author thanks Thomas Ferguson for very useful suggestions and helpful comments which significantly clarified the arguments.

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Why Aren’t Libertarians Protesting the Freedom-Busting Texas Abortion Law?

It was a bad week for freedom in America. With Texas banning most abortions and empowering self-appointed vigilantes to stop women from exercising their right to reproductive healthcare, and the Supreme Court letting it stand, you’d think freedom-loving libertarians would be out in full force protesting.

After all, libertarians describe themselves as principled foes of state coercion and passionate defenders of individual liberty. While they may give different weight to principles of individual liberty, self-determination, and so on, libertarians claim to be highly skeptical of government intrusion into our lives. Wikipedia informs us that most generally agree that sperms, eggs, and fetuses are not persons with rights.

In his 1982 book, “The Ethics of Liberty,” libertarian economist Murray Rothbard wrote that “the proper groundwork for analysis of abortion is in every man's absolute right of self-ownership. This implies immediately that every woman has the absolute right to her own body, that she has absolute dominion over her body and everything in it. This includes the fetus."

That’s clear enough. Now is the chance for libertarians to stand up for what they believe, stated thus since 2008 in the official Libertarian Party platform:

“Recognizing that abortion is a sensitive issue and that people can hold good-faith views on all sides, we believe that government should be kept out of the matter, leaving the question to each person for their conscientious consideration.”

Got it. My decision to give birth is for me to decide, not the state. Very reasonable.

Let’s check out how America’s most influential libertarians have been responding to the Texas Taliban and the most flagrant disregard for a woman’s personal liberty seen in a generation.

Give it to them, guys!

To get their take, I first consulted a list of libertarian heavyweights put together by Newsmax. Helpfully, the editors share their criteria for selection:

“To compile this list, our editors defined a libertarian as a consistent advocate of free-market capitalism, minimal government, and social tolerance (thus distinguishing libertarians from conservatives). Their motto might be "Keep government out of the boardroom and the bedroom."

Social tolerance! Out of the bedroom! Right on.

According to Newsmax, the two top libertarians are former congressman Ron Paul and his son, Senator Rand Paul.

Ron Paul styled his 2008 run for the presidency as a “Campaign for Liberty.” Yet on the stump, he consistently denounced a woman’s right to make the most private decisions of her life. He wrote a book called “Liberty Defined,” but surprisingly, his definition did not include a woman’s sovereignty over her own body. Instead, he complained that taxpayers should be at liberty not to pay for abortions.

Like a good libertarian, Paul is very clear in the book that torture of any sort is reprehensible and sadistic. Yet oddly, he does not consider that torture might be a proper word to describe what is done to a woman forced to undergo an extremely painful and potentially life-threatening physical experience against her will.

On abortion, Senator Rand Paul goes even further afield of libertarian principles than his dad, calling himself "totally pro-life" and supporting "any and all legislation that would end abortion or lead us in the direction of ending abortion.” In fact, he wants federal control of women’s bodies, stating, “I believe in a Human Life Amendment and a Life at Conception Act as federal solutions to the abortion issue.”

It turns out that America’s most influential libertarian politicians are in strong opposition to the party’s own platform and principles.

Meanwhile, as the pandemic rages, Senator Paul has lost no opportunity to vociferate against Covid-19 safety measures and make rousing speeches to his Twitter followers on the need to “stand together” for freedom and resist mandated mask-wearing. Yet on the matter of mandates to endure pregnancy, labor, and childbirth, perhaps having your body ripped open or sliced, and permanently altered, evidently Paul considers this less constraining to personal freedom than affixing a thin piece of cloth to your nose.

So far, on the Texas abortion ban now dominating the headlines, the two libertarian giants have said…pretty much nothing.

Maybe it’s just something about being a politician that makes libertarians confused. Perhaps the intellectual stars of the movement can offer more consistency.

How about Ed Crane, former head of the Cato Institute and currently pundit-at-large on matters of freedom? The man the Wall Street Journal calls the champion of “free people and free markets” will certainly stand up for the liberty of women. Some years ago, Crane called himself a “pro‐choice advocate,” though he insisted there were far more important matters to deal with, such as private property rights. Nevertheless, he is said to be among the most well-reasoned of libertarians -- the man you turn to when you want to hear something sensible.

Currently, Crane is talking about all kinds of things, like term limits, and tweeting about the need to defend civil liberties. So what does he say about the frontal assault on the liberty of 7 million women in Texas, and likely millions more in other states that try to copy the Texas law?

As far as I can tell, nothing. Nada. He recently retweeted a great line about how libertarians love the liberty of others. But there is no mention of the millions of American women currently filling up that “others” category.

Possibly, Crane is too chagrined by his sexual harassment accusations to opine on women’s rights at this time.

Fine. We’ll move over to a younger generation of thinkers, the Gen X libertarian luminaries Nick Gillespie, editor of Reason.TV and Reason.com, and Matt Welch, Reason Magazine's editor-in-chief. Reason is the Bible of the libertarian movement and these two talk about every subject under the sun. Undoubtedly, they can tell us how libertarians are going to confront the authoritarian terror of the Texas Taliban.

Back in 2011, the pair, who co-authored a book called, “The Declaration of Independents: How Libertarian Politics Can Fix What's Wrong With America,” got down to business in a video titled, “What’s the Libertarian position on abortion?” Gillespie and Welch are asked, “If libertarian philosophy puts individual rights paramount, shouldn’t libertarians oppose abortion?”

Very straightforward.

Gillespie reveals that while the majority of libertarians are pro-choice, a 30% minority is “anti-abortion.” While stating that you can be a libertarian and have that view (though not elaborating on exactly why), Gillespie is clear that he does not personally agree with the anti-choice position. “Abortion should be legal,” he affirms. For his part, Welch waxes philosophical about changing mores and the “sliding scale of humanity from egg to fetus to a viable fetus that can live outside the womb,” assuring us that thanks to the wonders of medicine and “more ways of controlling our sexuality and our reproduction…we are actually seeing the minimization of abortion as a major issue in American politics.”

I guess nobody told Welch that women in the United States are still not even able to purchase the 60-year old medical wonder known as “birth control pills” at the drug store. Or that his prognosis of the direction of American politics is about as wrong as it’s possible to be.

But maybe now that the topic is white-hot in the news and the freedom of millions of women is at stake, these two august journalists will weigh in. I checked out their Twitter feeds for the last few days.

Gillespie is tweeting about the cobb salad at his favorite New York restaurant.

Welch is focused on Afghanistan and defending free speech against cancel culture.

On the Texas law and the Supreme Court’s enabling of the assault on female liberty? Crickets.

Over at Reason mag, there is one lone writer who published a quibble with the law (scroll down below articles on homeschooling and the freedom to vape). His main point is to warn conservatives that a similar strategy could be used to take away their guns.

I could find but one person connected to Reason who seems to think there’s anything wrong with vigilantes collecting bounties for spying on women – a tweet from Liz Wolfe, Reason staff editor. Good for Liz, but this same person was not so very long ago lambasting pro-choicers for spreading “propaganda” on the dangers of abortion restrictions, blithely predicting that “tech advancement might render all this (mostly) pointless to sort out anyway.”

Tell that to low-income women in Texas, many of them women of color and immigrants, who are watching their futures destroyed and their internal organs commandeered, unable to afford the now-average 248-mile journey to an abortion clinic and the high costs and waiting periods imposed by anti-choice activists.

So much for Reason.

Ok, if the politicians and pundits aren’t standing up for their movement, perhaps the denizens of Silicon Valley, famous for their libertarian leanings, will take up the charge to fight the grotesquely coercive Texas law.

While not as outspoken about his political leanings as some of his tech-bro libertarian colleagues, entrepreneur Elon Musk has been noted for taking libertarian stances. The Financial Times refers to him as “space pioneer, electric car guru and cantankerous libertarian,” while his good friend Scott Painter calls him a “very libertarian, free-market type.”

Musk has been quite exercised on the topic of freedom recently. He has called quarantine measures “fascist” and railed against any government “forcibly imprisoning” people in their homes with shelter-in-place policies. Outraged that California Covid shutdowns were costing him revenue and sure that the virus would be gone in April (2020!), the billionaire packed his bags last year and moved to Texas.

Musk has offered this definition of freedom: the “maximum set of possible future actions.” Sounds like he wants people to be able to make lots of choices for themselves. That makes sense.

Surely, he would agree that forcing a woman to give birth against her will is sawing off large branches of her decision tree. Possibly, she will no longer have a tree at all, because she will be dead.

Yet Governor Greg Abbot of Texas recently bragged that he could count on businessmen like his friend Elon Musk to back him up on the abortion law: “Elon consistently tells me he likes the social policies in the state of Texas,” said the gov.

Musk responded with a Texas two-step of a tweet around the subject: “In general, I believe government should rarely impose its will upon the people, and, when doing so, should aspire to maximize their cumulative happiness…That said, I would prefer to stay out of politics.”

This is a bit confusing. He was way into politics a minute ago on the whole Covid thing. And if he felt that the Governor’s suggestion that he supported the Texas abortion law was inaccurate, he could certainly set the record straight. He might, for example, point out that coercing women into having unwanted children is a crystal-clear example of the state imposing its will upon the people, and making a lot of them miserably unhappy. A person who has been raped by her father, brother, or uncle, for example, would be unlikely to experience maximum happiness in being ordered to birth his baby. Musk is reputed to be very smart. He must have some insight.

But that tweet is evidently all he has to say. His feed is now extolling the virtues of space travel.

What about that most famous of libertarian contrarians, the tech entrepreneur Peter Thiel? Thiel is so adamant that the government stay out of his life that he once proposed the idea of a floating libertarian utopia where bureaucrats couldn’t bother him.

In 2017, Thiel did indeed weigh in on the subject of abortion and politics with this prescient gem: “It’s like, even if you appointed a whole series of conservative Supreme Court justices, I’m not sure that Roe v. Wade would get overturned, ever. I don’t know if people even care about the Supreme Court.”

Given the rocket-sized hole blasted into this theory by recent events, it sure would be interesting to hear what is Thiel is currently thinking about.

Bitcoin as a financial weapon of the Chinese, of course.

In desperation, I scrolled down the Newsmax list to find an influential libertarian woman who would hopefully show some spine in defending the cause. I had to keep scrolling because there weren’t any women in the top 25. Finally, I found somebody who looked promising: Jennifer Grossman. She’s that rara avis, a libertarian feminist, and besides that the CEO of the Atlas Society, to the ideas of the doyenne of libertarianism, Ayn Rand.

Now we’re talking! Ayn Rand didn’t mince words on the subject of abortion. She described the notion that a fetus has rights as “vicious nonsense." The famous thinker laid out her position in 1968 in “The Objectivist”:

“An embryo has no rights. Rights do not pertain to a potential, only to an actual being. A child cannot acquire any rights until it is born. The living take precedence over the not-yet-living (or the unborn).”

Rand didn’t stop there: “Abortion is a moral right—which should be left to the sole discretion of the woman involved; morally, nothing other than her wish in the matter is to be considered. Who can conceivably have the right to dictate to her what disposition she is to make of the functions of her own body?"

Who, indeed? Not a bunch of Texas politicians, one would think! As a feminist Randian, Grossman couldn’t possibly remain silent as the expressed tenants of her hero are violated on a gigantic scale.

I perused Grossman’s Twitter feed. Unfathomably, I could find absolutely nothing about the Texas abortion law. I went over to the Atlas Society website, where she blogs. There were some interesting musings about women, including an account of an alarming weekend she spent with the predator Jeffrey Epstein, whom she briefly considered dating. I saw some strong stuff about the badness of sexual harassment, and plenty of female empowerment messages.

But zilch on the Texas abortion law, or on the subject of abortion, period. A big zero.

So there you have it. Try as I might, I could not find a single influential libertarian exerting their influence on behalf of the freedom of the women of Texas. Despite the Texas government’s extreme coercion and its egregious violation of their most basic personal freedom. Despite the majority of libertarians who say they are pro-choice. Despite the Party’s own platform and stated beliefs.

I would like to be wrong. Please let me know if you see any influential libertarians in the media protesting the Texas outrage. Or marching in the streets on behalf of women’s reproductive freedom.

But if I am understanding all this correctly, I have to conclude that a libertarian is someone who will defend a woman’s right not to wear a medical mask during a pandemic, but inexplicably holds that choices about her body, her health, her economic situation, and her entire life trajectory, belong to the government. Let freedom ring?

Maybe it’s time to fix what’s wrong with libertarianism.

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